Germany’s strong export performance must not distract from domestic structural weaknesses – Policymakers should show more interest in trade policy …

The drawbacks of success

Germany’s strong export performance must not distract from domestic structural weaknesses – Policymakers should show more interest in trade policy

Germany’s strong export performance has been a constant feature of the German economy ever since the founding of the Federal Republic. However, the second wave of globalisation has left its mark. In the early 1990s Germany had a share of 11.2% of world exports, in 2005 this share had shrunk to 9.8%. Germany has trade deficits with China (-€18.6 bn.) and Japan (-€8.1 bn.). 40% of German exports go to the EU, and France is Germany’s largest export market. Are we not as strong as we think?

There is no reason to cry about the former World Champion in exports now ranking second. The real trouble is that Germany’s export success frequently serves to paper over Germany’s less than stellar economic performance over the past 10 to 15 years. First of all, there is no correlation between export success and economic growth, as the examples of the US and the UK show. Germany has maintained its lead in exports by systematically outsourcing the labour intensive parts of production to low-wage countries, primarily in Eastern Europe. Consequently, the import content of German exports has increased dramatically over the past 15 years from 15% to 40%. Therefore, the increase in exports cannot automatically be equated anymore with an increase in production and employment. A mixture of off-shoring and outsourcing explains Germany’s continuing export success.

In addition, Germany has pursued a policy of systematic wage deflation, thus reducing unit labour costs, mostly at the expense of its EU partners. In this way, Germany was able to raise its share of internal EU exports substantially. Adam Posen of the Peterson Institute for International Economics , Washington D.C., claims that the export orientation of many German companies, particularly in the Mittelstand sector (SMEs – small and medium-size enterprises), has cemented an economic structure that is not conducive to raising growth and productivity in the German economy. The export success of Mittelstand companies, according to Posen, is made possible in part by subsidies through the public banking system (Sparkassen) and the focus on exports. The lack of a connection to capital markets prevents the necessary consolidation of the Mittelstand sector in terms of achieving economies of scales, raising productivity and spurring innovation. For this reason, the array of German export goods is what it was forty years ago: automobiles, machinery, electrical equipment, machine tools, chemicals and paints, and with limits, pharmaceuticals. There is no leading German high-technology company. There is only one German company among the 25 leading information technology service providers (SAP), and none among the leading information technology producers. The lack of consolidation and technological innovation reduces productivity growth and profits, particularly since in many of Germany’s successful sectors the competition from newly industrialising countries will grow, thus further reducing profits. Through its focus on exports, Germany has substituted wage restraint for innovation, and has given up on developing cutting-edge technologies and on reforming its business sector. This explains in part, at least in Posen’s view, Germany’s resistance against the EU take-over directive and its ambivalent feelings about private equity investments.

However, Posen’s critique of the Mittelstand basis of German export prowess is not fully convincing. While it is true that Germany’s product range remains limited to what was in vogue thirty years ago and that few of the German SMEs have transformed themselves into multinational corporations, it can hardly be said that their success in foreign markets is due to a lack of productivity or wage restraint. Germany remains a high wage country and Posen’s point that German export success has been due more to strong demand in export markets than to price competitiveness contradicts his own thesis. Whether highly specialised, owner-run German SMEs can transform themselves into publicly quoted multinational technology companies seems highly questionable. The test will be whether those German SMEs that have been bought up by private equity funds are ultimately merged with other groups or floated on capital markets.

The export orientation coupled with an underdeveloped service sector has a number of drawbacks: Should foreign demand falter or should the currencies of Germany’s trading partners undergo devaluations, then it would be difficult to shift from tradable to non-tradable goods and to increasing domestic demand. Such a scenario may well become a reality with an American economy in decline and if an adjustment of the worldwide current account deficits become inevitable. Moreover, Germany makes little contribution to adjusting global imbalances, but remains dangerously exposed should such an adjustment happen in a spontaneous and uncontrolled manner.

From a policy point of view, Germany’s export success has a paradoxical, if not perverse political effect on policy makers and their attitude to trade policies. While the most important economic policy decision makers in the government and elsewhere do not tire of repeating the mantra of trade liberalisation and open markets, Germany’s export performance leads to policy complacency and to a reduction of engagement in real trade liberalisation. The large trade surplus signals to policy-makers that there is no need for an active German trade policy or for developing clear trade policy priorities. Germany has exported itself to death so as to make an active trade policy a necessity. Trade and German export success is instinctive and taken for granted. This explains why there is only a handful of members in the German Bundestag that have an interest or expertise in trade, and those mostly come from sectors with protective interests such as agriculture and steel. This is also one of the reasons why Germany tends to purely ratify the basic outlines of EU trade policy, instead of actively contributing to its articulation. In a world of dramatic changes, this attitude will have to change, too.